Business Conversion

Converting a Sole Proprietorship into a Partnership

calendar05 Apr, 2023
timeReading Time: 8 Minutes
Sole proprietorship into a partnership

The formation of a Sole Proprietorship is simple, but it may limit your company’s ability to expand in the future. After all, it’s not easy to start a firm from the beginning and make it successful. It is advised to register as a partnership rather than a sole proprietorship if one wants to expand their organization by adding partners without encountering any difficulties. It is always possible to convert your company into a partnership. As a company begins to see steady progress, it is typical for the owner to look into formal forms likepartnerships and limited liability companies. This is done because formal structures provide more legal protection. Despite this, a lot of people end up being perplexed since there is so much information that can be found online.It should be emphasized that a sole proprietorship cannot modify its registration as a partnership. Despite this, the GST Act contains a number of references to the process of transitioning a sole proprietorship into a partnership. It includes acquiring GST registration for unutilized ships, producing a deed for unutilized ships, and transferring partner Input Tax Credit (ITC) to unutilized ships. It also entails cancelling GST registration for sole proprietorships. Scroll down check more about converting a Sole Proprietorship into a Partnership.

How to Change a Sole Proprietorship into a Partnership?

You can check the following points to change a Sole Proprietorship into a Partnership:

  1. Drafting a Partnership Agreement

In order to convert a sole proprietorship into a partnership, a Partnership Deed must first be drafted. The major change that has to be disclosed in the deed is the sole proprietorship that is transitioning into a partnership by adding more partners and seeking funding. The deed must specify how much money each partner will pay, how profits and losses will be split, and what will happen to one or more partners upon retirement.

In addition to this, the deed has to specify any modifications that will occur as a result of the incorporation of additional business partners. A sufficient degree of attention should be made to set each partner’s investment amount, pay, percentage of profits, rate of interest on capital, profit-sharing system, and accountability in the event of a loss. There should be no room for uncertainty, since this might potentially result in pointless legal battles in the future. The projected beginning date of the partnership’s operations must also be included in the deed.

The introduction of new partners necessitates the documenting of any alterations that may arise as a result. If the company’s address has changed since it was registered, please let us know.

In this particular instance, a fresh registration is not required. The sole proprietorship is instantly dissolved, and the partnership deed takes effect when the deed has been verified and approved by all of the partners.

  1. GST Partnership Registration

In order to register for GST, the taxpayer is required to submit an application for a PAN number once the partnership deed has been finalized.

A company’s current account must be established when the GST number has been obtained correctly. Following that, complete the procedure of seeding these Bank account data into GST registration.

If it is necessary due to the nature of the company, the partnership firm must additionally apply for registration under other legislation. The trademark registration for the sole proprietorship must be updated to reflect the new partner information if it already has one.

  1. Stamp Duty

The partners in a partnership deed are needed to pay the requisite stamp duty, which varies based on the firm’s capital, in order to confirm the legitimacy of the deed. The amount of stamp duty that must be paid is proportional to the capital contributions that the partners have made. The State Stamp Act, which differs from state to state, specifies the duty rate. The price of our bundle is 500 Indian Rupees.

  1. GST Partnership Conversion from Proprietorship

A sole proprietorship cannot be changed into a partnership under the Goods and Services Tax (GST) Act. The process of transitioning from a sole proprietorship to a partnership organization is mentioned in a number of indirect references throughout the Act. GST registration for partnerships, transferring unused Input Tax Credit (ITC) to partnerships, and cancelling GST registration for sole proprietorships are all included.

  • GST Registration Requirements

To transform a sole proprietorship into a partnership business and get the PAN, GST registration, and bank accounts of the partnership firm, it is necessary to establish a partnership firm. The first thing that has to be done in order to establish a partnership is for the partners to put their thoughts down on paper in the form of a “Partnership Deed,” which describes the guiding principles of the company. In order to register for GST, the taxpayer is required to submit an application for a PAN number once the partnership deed has been finalized.

  • GST Partnership Registration

Apply for GST registration using Form REG-01 when the partnership firm’s PAN has been received. To apply for GST, you must present the following documentation:

  • PAN card for the company
  • Partnership Agreement
  • PAN cards for each partner
  • Aadhar cards, passports, driver’s licenses, and voter registration cards for all partners, in addition to the required addresses mentioned in the partnership agreement.
  • Images of All Partners
  • Letter of authorization designating a partner as the partnership’sauthorized GST signature.
  • A document attesting to the physical location of the company’s operations
  • Utility Bill/Property Tax Receipt (Last Two Months) of Such Business Location
  • Bank statement or book
  • Copy of Registration Certificate from a Different Act
  • Apply for GST registration for the partnership company after gathering all of the required documentation.
  • Filing of Returns by Proprietorship and Partnership

While filing the cancellation request, the taxpayer is required to mention the date on which the GST registration of the proprietorship will be discontinued. When submitting an application for a new GST registration for the partnership entity, the taxpayer is also required to give the date on which the need to register for GST first arises. The effective date for GST registration of a partnership is the date that the taxpayer must ensure is the same as both of the aforementioned dates.

As a result, until the new GST registration date is notified, the proprietorship business must submit all GST returns. On the day of receiving its GST registration, the partnership must start submitting GST returns.

Sole Proprietorship into a Partnership Conversion

GST does not apply to the sale of shares or other assets when a sole proprietorship converts into a partnership. Schedule II of the CGST Act[1] provides a comprehensive description of this exception. This advantage is available when the current firm no longer meets the requirements to be considered a taxable entity as a result of the conversion. The CGST Notification also exempts the sale of a company that is still in operation. So, it should come as no surprise that the Goods and Services Tax (GST) does not apply to the transaction involving the sale of an active business.

Transfer of Unused ITC to a Partnership

The taxpayer may transfer the unutilized ITC to the partnership business after completing the filing of any outstanding taxes. Unutilized ITC is transferred to a partnership firm in the manner described below:

  • To transfer the unutilized ITC to the electronic credit ledger of the partnership, Form GST Partner -02 must be filled out by the sole proprietorship.
  • The Proprietorship Entity is also required to produce a copy of a document that verifies the transfer of the company and includes a particular provision for the transfer of liabilities.
  • The unutilized ITC indicated in Form GST Partner -02 will be credited to the partnership’s GST electronic credit ledger when the GST has approved the information provided by the sole proprietorship on the GST website.
  • The inputs and capital items that have been transferred must be appropriately recorded in the books of accounts of the partnership firm.

Transfer of Balance in the Electronic Cash Ledger

A balance in an electronic cash ledger cannot be transferred between organizations under the GST Act. The taxpayer is required to submit Form RFD- 01 with a refund type of “Refund of Excess Amount in Electronic Cash Ledger” or “Refund for Other Reasons” in order to be eligible for a refund of the balance in the electronic cash ledger.

Process for transferring unused input tax credits to a Partnership

The process of transferring unused input tax credits to a Partnership is as follows:

(1) A Proprietorship Corporation must complete FORM GST ITC-02 together with a request to transfer unused input tax credit from his computerized credit ledger to a Partnership Firm.

(2) The sole proprietorship must provide a copy of a certificate attesting that the sale, merger, de-merger, amalgamation, lease, or transfer of the company includes a provision for the transfer of liabilities. This certificate must be given by a practicing-chartered accountant or cost accountant.

(3) In order for the unused GST ITC-02 credit to be allocated to the Ownership firm’s electronic credit ledger, the Partnership company must accept the information provided by the Ownership business on the shared portal.

(4) In his books of accounts, the partnership firm must appropriately account for the inputs and capital products exchanged.

Cancellation of Sole Proprietorship Registration

  • As a sole proprietorship, you are responsible for filing all GST Returns and making all applicable tax payments.
  • After all taxes have been paid in full, you may submit an application to have your Sole Proprietorship Registration cancelled by completing Form GST REG 16 and noting “Change in legal Structure of firm.” The GST number for the new Partnership entity must also be provided.
  • After selling the whole company to a partnership ship firm, transfer all of the company’s assets and liabilities to the business. Until the new GST registration of partnerships is implemented, the proprietorship company that is registered as a sole proprietor must also submit all GST returns. On the day of receiving its GST registration, the partnership must start submitting GST returns.
  • The GST statutes provide that in the event of such a conversion, no GST is due on the transfer of assets from one company to another.
  • It is an additional requirement that, upon conversion, the existing company cease to be a taxable entity, and that the status of the existing business will remain intact following the transfer of all assets. This requirement can only be met if the existing company ceases to exist as a taxable entity.
  • By going through the whole procedure, a sole proprietorship might become a partnership. In addition, it is important to note that the procedures described above are, for the most part, applicable to a wide range of different circumstances in which one legal business acquires another legal firm.

Partnership Agreement Details

In drafting a partnership agreement, the partners must keep the following in mind:

  • Information such as the name of the firm and the locations in which it has an operation
  • Partnership Duration
  • Information on the profit and loss percentages for each partnership within the company
  • The Specifics of Organizational Management
  • A Consensus Has Been Reached on Some Aspects of Partnership
  • The number of partners and the number of staff that each partner employs
  • Provision and information on prospective capital-raising
  • The distributed labor of the business’s partners
  • The Partners’ Duties in a Partnership
  • Bank account information
  • Instructions Regarding the Removal of Partners (if any)
  • The Methodology of Business Accounting
  • Details on the ownership of a business property
  • Information About the Goodwill Division in the Event of a Partnership Dissolution
  • Asset and liability distribution among partners after dissolution
  • Methods for Welcoming New Partners and Include Them in Decisions
  • Information on the passing or withdrawal of a partner, as well as the ownership transfer or the state of the partnership.
  • Partners in the various conflict resolution methods that are used by the firm.
  • Partnership qualities

Conclusion

There will be structural adjustments when a sole proprietorship switches to a partnership. In a partnership, there could only be 20 partners (unless the business is a bank, in which case there are no more than 10 partners allowed). Unless otherwise stated in the partnership agreement, each partner has an equal amount of effective power over the company’s activities and receives an equal portion of the profits. Without the consent of the other partners, a partner cannot sell their stake to another. A partnership firm, on the other hand, has a finite life period. At the retirement, insanity, bankruptcy, or death of any partner, the government will legally dissolve the firm.

Converting to a partnership is a good alternative to going directly for other business structures that have higher compliance requirements and are more expensive to incorporate when a business owner wants to expand his business but does not want to take on the burden of excessive compliance and wants complete control over the business. When it comes to shared obligations and liabilities, partnerships are better than sole proprietorships.

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